THE MORALITY OF SHORT SALES

Is walking away from a million dollar + home, when you’re $250,000 upside-down immoral or simply a business deal that didn’t work?

This question was put to the group of professionals attending the Real Estate Trends class at last week’s Stewart Title Success Summit, and the ensuing discussion was spirited to say the least. I love to hear what you think!

Here’s the scenario:

A family buys a beautiful new home in 2006 for $1.5M. Remember, at that point in time it was still possible to get financing based on stated income and without putting any money down. But for our purposes here let’s say the homeowner does have some skin in the game - say they put 5% down or $75,000. They move in and live happily paying the monthly mortgage as promised. Now fast forward to today.

We are well into the recession, the mortgage market has gone through some violent and not-so-violent revolution, home prices have gone down, as have interest rates. The $1.5M home is now worth much less, maybe as much as $250,000 less and if the family were in a “have to sell” situation they would be putting their home on in a glutted market with 7 years of competing inventory. They are paying a mortgage based on the $1.5M price and looking at homes down the street or around the corner that are selling at today’s depreciated prices and in a lending market with amazingly low interest rates.

So, Mr. $1.5M homeowner looks at his asset sheet and says, “Wow, I’ve got a liability here. I’m paying on a $1.5M mortgage but the house is only worth $1.25M. I could get a better interest rate, protect my credit, and fix my asset sheet. All I have to do is give this house back to the bank, let them do the short sale, and I’ll go buy that beautiful place around the corner. Oh, and by the way Mr. Banker, would you give me a loan on my new place?

This scenario is actually happening and the number of times it happens is promising to grow in numbers for the next 2-5 years depending on how one looks at the statistics.

I’m guessing that many of us can see our way to why a short sale can be a welcome relief and justifiable to the homeowner who was put into an adjustable rate mortgage on a home in the under $200K range and are now dealing with an 8% or higher interest rate. Or we feel OK with it if the homeowner lost their job, or had a medical crisis that clobbered their savings, or lost their equity in an ugly divorce or, . . .

So, does a higher price point, more generous income stream, and the ability to buy a new home at a better price and interest rate make a difference?

The other side to consider is this. The purchase of a home and the agreement to repay a mortgage is, at its heart, a business deal. At its essence, the agreement looks like this - the home-buyer says: “Bank, if you lend me the money to buy this home, I agree to pay you (fill in the blank) amount for this period of time, at this rate. And if I don’t pay you, you have the right to take control of the property in the way you see fit.”

So again I ask, the question, “Is walking away from a million dollar + home, when you’re $250,000 upside-down immoral or simply a business deal that didn’t work?”

I stand with my Managing Broker, Charles Roberts, who initially posed the question in the session last week – I’m not particularly interested in passing judgment. I’m much more fascinated by the fact that this conversation is even taking place and what it means for our society in the future.